Franklin Templeton Sees Aussie Yield Discount Tripling on Rates

(Bloomberg) -- Australia’s 10-year yield discount versus the U.S. may triple in the next 12 months due to a divergence in central bank interest rates, according to Franklin Templeton Investments.

The U.S. manager of $733 billion in assets sees the discount blowing out to as much as 70 basis points from about 20 currently. Investors will have the nations’ two central banks to thank for that phenomenon, as the U.S. Federal Reserve hikes interest rates while the Reserve Bank of Australia stands pat, said Chris Siniakov, managing director of fixed income for Australia.

“Just 12 months from here, you get let’s say three, maybe four rate hikes from the Fed, well then you’ve got more than 100 basis points spread in the cash rate,” Siniakov said in an interview in Sydney. While the 10-year yield gap should widen, “it won’t increase to the same amount -- maybe it will be somewhere between 50 and 70 basis points as a range,” he said.

The yield premium that Australian bonds enjoyed over Treasuries since 2000 swung to a discount this year as disappointing economic data pushed back expectations for the RBA to lift rates. Meanwhile, U.S. policy makers have tightened six times since December 2015 and remain committed to normalizing monetary policy. The discount touched 24 basis points earlier this month -- the widest since October 1981 -- and the gap is set to widen as growth in the world’s biggest economy gains momentum.

Franklin Templeton Sees Aussie Yield Discount Tripling on Rates

Melbourne-based Siniakov said he doesn’t see the RBA hiking until 2020 based on “a pretty strong view” that the Australian economy is “more lackluster” than the central bank has been projecting.

Franklin Templeton likes the two-to-three-year part of the Australian yield curve because the market was pretty optimistic in its pricing of interest rate increases from the RBA over the next 18 months, Andrew Canobi, director of fixed income for Australia, said in the same interview.

“Further out the curve, the long end, we are much more cautious because again, what happens to our market is a function of what’s happening in the U.S.,” Canobi said.

The 10-year U.S. Treasury yield topped 3 percent on Monday, a level it has been hovering around since surpassing it at the end of April for the first time since 2014.

Adding to pressure on the yield spread between Australia and the U.S. to widen is a weaker Australian dollar, which could fall further by year’s end, according to Siniakov.

“It comes down to what the U.S. dollar is doing,” he said. “We’ve been on a really nice positive momentum environment for the USD in the last six weeks and as long as that persists, the trend for the Australian dollar should move toward 72” U.S. cents, he said.

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